China's moves on Tuesday to make it more difficult to short the renminbi in Hong Kong, the largest market for the offshore trading of the currency, is not without risks; but it will at least reassure those who had come to believe that Beijing was completely out of its depth in responding to its volatile stock and currency markets. As interbank rates for renminbi in Hong Kong jumped as high as 67 per cent on Tuesday and liquidity was massively squeezed, traders looking to short the currency will find it in short supply. Almost instantly, what has seemed a sure bet for traders, that the renminbi would depreciate, now seems an uncertain one - which is as it should be.
The move, which harks back to tactics the Hong Kong monetary authority itself successfully used to defend the Hong Kong dollar when it came under siege during the Asian financial crisis in the late 1990s, will have its critics - but clarity from Beijing on the renminbi was much needed. Ever since a poorly communicated move in August to widen the trading band for the renminbi and move away from the renminbi's erstwhile peg to the US dollar, Beijing has been unsettling investors around the world with its confused and confusing moves. It has arrested or detained the heads of securities firms in China for the "crime" of shorting the market. Last week, the introduction of an ill-advised circuit breaker led to the suspension of trading for the entire day after the market hit the limit on both Monday and Thursday. In essence, the circuit breaker kicked in and halted trading before bargain hunters could start buying in the afternoon. In August as well as last week, Beijing directed state financial institutions to buy and hold shares, indicating that it was willing to defend at any cost the huge run-up in share prices in the past 18 months, as though a decline was contrary to the tenets of Chairman Mao.
If this were not clumsy enough, Beijing poorly articulated its reasons for widening the trading band in August, which is part of a long-standing pledge to make the currency more flexible and be included in a basket of currencies administered by the International Monetary Fund. Seen instead as the beginning of a currency war, it sent emerging markets tumbling. While the reaction was overdone, Indian policymakers must bolster efforts to deal with the fallout and the expected impact on India's already tumbling exports. The aggressiveness with which Beijing has intervened to support the offshore renminbi in Hong Kong on January 12 ought to underline that it sees benefits from a stable currency. The gap between the onshore rate of the renminbi and the offshore rate narrowed considerably yesterday. The off shore rate was Rmb 6.5878 to the dollar; the onshore rate a fraction stronger at Rmb 6.5764. Last week, the gap was as much as 2.3 per cent.
China's economy is slowing and its transition to a consumption-led economy from a heavily investment-led one is far from complete, but world markets were over-reacting to the drop in Chinese stock markets. The market's gyrations are unlikely to be transmitted to the real economy, although this may already be growing at half the official GDP rate. But, the world already knew the Chinese economy was slowing. What was a surprise was to discover that Beijing apparently did not know that markets go up as well as down.
